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237: Inflation and interest rate forecasts - it's those oil prices again...

11-16-2008 team


We provide our latest forecasts on UK inflation and interest rates. 



If this does not feed into far lower inflation figures – we will eat our hats!


We now expect UK inflation to drop to 1% or below by mid 2009 – there is a low case scenario that deflation starts to kick in acknowledging these dramatic drops in prices seen in the last few months.  


In a few months time, the early November 2008 1.5% UK interest rate drop should start feeding through – but we expect the bank to follow inflation down since its central target is to keep inflation at 2% or slightly below. If inflation gets to just above zero %, then the bank has a mandate to drop interest rates to zero without writing any letter of explanation to the Treasury. It is obliged to keep CPI inflation at ca. 2%. So do not be surprised to see mortgage rates come crashing down.


A typical variable rate tracker was about 7.8% early 2008. Rates have now dropped 2.25% - so the new variable rate should be about 5.5% to 6%. As interest rates drop to about 2%, then these variable rates should be about 2.25% above this level at 4.25%. So there is every possibility mortgage rates will drop to half the payment levels of early 2008 by around April 2009. The main fly in the ointment will be whether banks aggressively drop their rates competitively and don’t cream off large tranches to pay back against poor debit conditions.


It’s all doom and gloom at the moment – the big question is, will new tax stimuli and far lower interest rates kick start the economies around the world then help support house prices. The expectation is that this should be good enough, but no-one really know whether it will work. So in summary, the UK will get a massive economy stimulus and economic boost from:



Property prices will then be supported by the lack of building and mopping up of unsold stock. The massive lack of investment in residential building in the 2008 to 2009 period should sow the seeds for a housing supply crunch in 2010 to 2012 period, as the population continues to grow, no building takes place, more homes are needed and then the economy comes out of recession.


In London, as the financial services industry gets back into shape late 2009 and the massive infra-structure spending related to the 2012 Olympics kicks in, we see a big improvement in London’s prospects in 2010 to 2012. A mini-boom off the back of lower oil prices, inflation and interest rates – with investment in the Olympics at the same time.


But as we have warned before, watch out for the oil price. The current level of $57/bbl we believe is very low. It may stay down here for some time, but eventually it will rise again. We have already probably reached “Peak Oil” – its just being masked by the demand destruction we have seen in the last six months. When oil prices rise again, the whole cycle will start to repeat itself. Oil is controlling the world economics. We believe it was the prime reason for the credit crunch – for instance, in the USA, 5% of GDP was being spent on overseas oil imports at $125/bbl – that’s like a 5% tax or 5% royalty of the GDP/economy. No economy can reasonably handle this - as described in our special reports.


































Is it any surprise the biggest oil importers as a proportion of GDP are now in a recession:


Note interestingly that the UK only imports ca. 10% of its oil needs - so is quite well protected from high oil prices. It's banks have suffered though from over-lending and links to other global economies in trouble.


This is no coincidence – we modeled this earlier this year. What we all learnt was that far from being able to handle the higher oil prices, it was merely being masked by the continued inflating economies, until the banks finally showed us their books – and there was no money left! It had all be spent on oil – a massive transfer of wealth from western oil importing nation, to the oil exporting nations – mainly in the Middle East, Russia, Norway, Venezuela and Canada. Now they have the cash – don’t expect them to come and help the hard pressed western economies – they’ll be too worried about the oil price crash and balancing their books in $60/bbl oil (rather than the $20/bbl they used in year 2000).


In summary – for property investors – with oil prices at $60/bbl – expect property prices to start rising after 12 more months. But if oil prices rise above $100/bbl – expect property prices to stay in the doldrums or fall further.  Property is driven by oil prices – to put it bluntly.


Any doubting Thomas need only look back on the history of oil prices going skyrocketing – in 1971, 1981 and 1991 – oil prices peaked and caused recessions in the USA, UK and many parts of the world. The same again in 2008 – oil price peak, recession. The sooner the global economic decision makers learn this (again) the better. Oil speculators did not help. And OPEC – if they did drive up the price – have surely had it confirmed – they cannot charge more than $100/bbl without putting the world into recession and sending everyone off looking for alternatives that do not rely on expensive imports.


But – be careful. As the oil prices have crashed to $57/bbl – most OPEC countries have based their budgets on $60/bbl oil. The social spending will continue – to keep the populations happy. What will stop is investment in new supply. Meanwhile the banks are pulling the plug on western oil company field investments because of the credit crunch and uncertainty in oil prices – so this sow the seeds for the next supply crunch and rapidly (out of control) increase in oil prices some time in the next few years.


Recent Special Reports on Oil Prices and Property


191:  Oil Price Update and Real Estate

187:  Real Estate and the commodities super-cycle

186:  Oil price starts to skyrocket as predicted - how to profit

180:  Oil prices continue to skyrocket

172:  Make serious money - best investment sectors

169:  Oil supply crunch begins… protect yourself

168:  Alarm bells ringing – oil price shock now on the horizon

163:  Making Serious Money as asset prices plateau – resources and property

161:  Resources winners and losers - ranked list for property investors

160:  Find out the winners and losers in the biggest oil boom in history - about to happen...

159:  Massive oil boom - the winners and losers - be prepared

158:  Supply and demand scenarios - oil boom and the property investors insights

157:  Impact of "Peak Oil" for Property Investment

151:  Oil price $125 / bbl and rising…how to take advantage in property

150:  Peak Oil shortly due to be reach – unique insights for a property investor  

148:  Take advantage of the oil/gas/coal boom – key insights


As our regular visitors are no doubt aware, we predicted oil prices of $125/bbl by end 2008 in mid June 2007 when oil prices were $70/bbl. What we expected was a steady rise to this level and a gradual economic slowdown. What actually happened was more severe than we expected - oil prices skyrocketted to $147/bbl - this leading to a slump - demand destruction and recession - then prices crashing back to $57/bbl (Nov 13 2008). We think they will go back to the $100-$125/bbl level again, but because of the recession - this will likely now take a few years.


In summary, we were not surprized to see the oil prices skyrocking - this is what we forecast, but they overshot - the USA cannot afford an oil important bill of $1 Trillion a year! And South Korea cannot afford to spend 8% of it GDP on energy imports. Now both are in a recession - it's not rocket science! It's simple mathematics. Korea being taxed at an additional 8% everything.  Oil demand for the world will now only rise by ca. 0.3 million barrels a day next year - rather than the 1.5 million expected if oil had stayed steady at ca. $80/bbl. The market overshot - and now it's probably undershooting - sounds familar...Meanwhile oil supply will rise slightly in 2009 after Angola brings more fields on stream - but after 2009, the supply picture will darken and we expect a new supply crunch any time from from end 2009 onwards according to our details demand/supply models built for each country (more on this later this year).  


So our advice is – catch the potentially last big wave of property price rises n the UK and USA from end 2009 onward – but get out in major oil importing economies if oil prices starts rising dramatically again – it will only lead to inflation, interest rate rises, and the asset price bubbles bursting! And all the retiring baby-boomers will be running for the hills – the first ones out will be the smart ones. After that – it’s over to China and India to lead global economies from 2015 onwards as the USA and UK help with financing only – and manufacturing become a thing of the past. So don’t expect another ten year unbroken period of growth like seen in the UK from 1997 to 2007.    


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